nep-opm New Economics Papers
on Open Economy Macroeconomic
Issue of 2013‒09‒28
sixteen papers chosen by
Martin Berka
Victoria University of Wellington

  1. Assessing International Efficiency By Heathcote, Jonathan; Perri, Fabrizio
  2. A Panel Cointegration Analysis of the Exchange Rate Pass-Through By Ben Cheikh, Nidhaleddine; Mohamed Cheik, Hamidou
  3. The Great Recession: A Self-Fulfilling Global Panic By Bacchetta, Philippe; van Wincoop, Eric
  4. Distribution Capital and the Short- and Long-run Import Demand Elasticity By Mario J. Crucini; J. Scott Davis
  5. Rounding the Corners of the Policy Trilemma: Sources of Monetary Policy Autonomy By Michael W. Klein; Jay C. Shambaugh
  6. Commodity Trade and the Carry Trade: a Tale of Two Countries By Robert Ready; Nikolai Roussanov; Colin Ward
  7. Current Account Norms in Natural Resource Rich and Capital Scarce Economies By Juliana Dutra Araujo; Grace Bin Li; Marcos Poplawski-Ribeiro; Luis-Felipe Zanna
  8. From Sudden Stops to Fisherian Deflation: Quantitative Theory and Policy Implications By Anton Korinek; Enrique G. Mendoza
  9. External Liabilities and Crises By Luis Catão; Gian-Maria Milesi-Ferretti
  10. Policy Coordination, Convergence, and the Rise and Crisis of EMU Imbalances By Bertola, Giuseppe
  11. Why are goods and services more expensive in rich countries? demand complementarities and cross-country price differences By Daniel P. Murphy
  12. Debt Crises and Risk Sharing: The Role of Markets versus Sovereigns By Kalemli-Ozcan, Sebnem; Luttini, Emiliano; Sørensen, Bent E
  13. Four Decades of Terms-of-Trade Booms: Saving-Investment Patterns and a New Metric of Income Windfall By Gustavo Adler; Nicolas E. Magud
  14. The Impact of Foreign Bank Deleveraging on Korea By Sonali Jain-Chandra; Min Jung Kim; Sung Ho Park; Jerome Shin
  15. Country Transparency and the Global Transmission of Financial Shocks By Luís Brandão Marques; Gaston Gelos; Natalia Melgar
  16. Capital Flows in Asia-Pacific: Controls, Bonanzas and Sudden Stops By Margit Molnar; Yusuke Tateno; Amornrut Supornsinchai

  1. By: Heathcote, Jonathan; Perri, Fabrizio
    Abstract: This paper is structured in three parts. The first part outlines the methodological steps, involving both theoretical and empirical work, for assessing whether an observed allocation of resources across countries is efficient. The second part applies the methodology to the long-run allocation of capital and consumption in a large cross section of countries. We find that countries that grow faster in the long run also tend to save more both domestically and internationally. These facts suggest that either the long-run allocation of resources across countries is inefficient, or that there is a systematic relation between fast growth and preference for delayed consumption. The third part applies the methodology to the allocation of resources across developed countries at the business cycle frequency. Here we discuss how evidence on international quantity comovement, exchange rates, asset prices, and international portfolio holdings can be used to assess efficiency. Overall, quantities and portfolios appear consistent with efficiency, while evidence from prices is difficult to interpret using standard models. The welfare costs associated with an inefficient allocation of resources over the business cycle can be significant if shocks to relative country permanent income are large. In those cases partial financial liberalization can lower welfare.
    Keywords: International business cycles; International risk sharing; Long-run growth; Long-run risk; Real exchange rate
    JEL: F21 F32 F36 F41 F43 F44
    Date: 2013–04
  2. By: Ben Cheikh, Nidhaleddine; Mohamed Cheik, Hamidou
    Abstract: This paper investigates the presence of a long-run equilibrium relationship in the exchange rate pass-through (ERPT) equation for a panel of 27 OECD countries. Previous empirical panel data studies, have neglected the possibility of cross-sectional correlation and spillovers amongst countries. Since the strong economic and financial linkages between OECD countries cannot be ignored, we apply second generation panel unit root and panel cointegration tests which account for possible cross-section dependence across the units in the panel. Our results suggest the existence of a cointegrated equilibrium relationship between the variables in levels, as implied by the theoretical underpinning of the ERPT mechanism. When estimating the long-run pass-through coefficient, both FM-OLS and DOLS estimators show an incomplete pass-through, i.e. import prices sensitivity to exchange rate movements does not exceed 0.70% for our sample of OECD countries. This evidence of partial pass-through would represent a key element in understanding the ongoing global external imbalances.
    Keywords: Exchange Rate Pass-Through, Import Prices, Non-stationary Panels
    JEL: C23 F31 F40
    Date: 2013–09
  3. By: Bacchetta, Philippe; van Wincoop, Eric
    Abstract: While the 2008-2009 financial crisis originated in the United States, we witnessed steep declines in output, consumption and investment of similar magnitudes around the globe. This raises two questions. First, given the observed strong home bias in goods and financial markets, what can account for the remarkable global business cycle synchronicity during this period? Second, what can explain the difference relative to previous recessions, where we witnessed far weaker co-movement? To address these questions, we develop a two-country model that allows for self-fulfilling business cycle panics. We show that a business cycle panic will necessarily be synchronized across countries as long as there is a minimum level of economic integration. Moreover, we show that several factors generated particular vulnerability to such a global panic in 2008: tight credit, the zero lower bound, unresponsive fiscal policy and increased economic integration.
    Keywords: Contagion; Great Recession; International co-movements
    JEL: E32 F40 F41 F44
    Date: 2013–05
  4. By: Mario J. Crucini; J. Scott Davis
    Abstract: International business-cycle models assume that home and foreign goods are poor substitutes. International trade models assume they are close substitutes. This paper constructs a model where this discrepancy is due to frictions in distribution. Imports need to be combined with a local non-traded input, distribution capital, which is slow to adjust. As a result, imported and domestic goods appear as poor substitutes in the short run. In the long run this non-traded input can be reallocated, and quantities can shift following a change in relative prices. Thus the observed substitutability between home and foreign goods gets larger as time passes.
    JEL: F1 F14 F44
    Date: 2013–09
  5. By: Michael W. Klein; Jay C. Shambaugh
    Abstract: A central result in international macroeconomics is that a government cannot simultaneously opt for open financial markets, fixed exchange rates, and monetary autonomy; rather, it is constrained to choosing no more than two of these three. In the wake of the Great Recession, however, there has been an effort to address macroeconomic challenges through intermediate measures, such as narrowly targeted capital controls or limited exchange rate flexibility. This paper addresses the question of whether these intermediate policies, which round the corners of the triangle representing the policy trilemma, afford a full measure of monetary policy autonomy. Our results confirm that extensive capital controls or floating exchange rates enable a country to have monetary autonomy, as suggested by the trilemma. Partial capital controls, however, do not generally enable a country to have greater monetary control than is the case with open capital accounts unless they are quite extensive. In contrast, a moderate amount of exchange rate flexibility does allow for some degree of monetary autonomy, especially in emerging and developing economies.
    JEL: E52 F3 F33 F41
    Date: 2013–09
  6. By: Robert Ready; Nikolai Roussanov; Colin Ward
    Abstract: Persistent differences in interest rates across countries account for much of the profitability of currency carry trade strategies. "Commodity currencies'' tend to have high interest rates while low interest rate currencies belong to exporters of finished goods. This pattern arises in a complete-markets model with trade specialization and limited shipping capacity, whereby commodity-producing countries are insulated from global productivity shocks, which are absorbed by the final goods producers. Empirically, a commodity-based strategy explains a substantial portion of the carry-trade risk premia, and all of their pro-cyclical predictability with commodity prices and shipping costs, as predicted by the model.
    JEL: F31 G12 G15
    Date: 2013–08
  7. By: Juliana Dutra Araujo; Grace Bin Li; Marcos Poplawski-Ribeiro; Luis-Felipe Zanna
    Abstract: The permanent income hypothesis implies that frictionless open economies with exhaustible natural resources should save abroad most of their resource windfalls and, therefore, feature current account surpluses. Resource-rich developing countries (RRDCs), on the other hand, face substantial development needs and tight external borrowing constraints. By relaxing these constraints and providing a key financing source for public investment in RRDCs, temporary resource revenues might then be associated with current account deficits, or at least low surpluses. This paper develops a neoclassical model with private and public investment and several frictions that capture pervasive features in RRDCs, including absorptive capacity constraints, inefficiencies in investment, and borrowing constraints that can be relaxed when natural resources lower the country risk premium. The model is used to study the role of investment and these frictions in shaping the current account dynamics under windfalls. Since consumption and investment decisions are optimal, the model also serves to provide current account benchmarks (norms). We apply the model to the Economic and Monetary Community of Central Africa and discuss how our results can be used to inform the current account norm analysis pursued at the International Monetary Fund.
    Keywords: Current account balances;Central Africa;Natural resources;Developing countries;Private investment;Public investment;Central African Economic and Monetary Community;Economic models;Current Account, External Sustainability, Developing Economies
    Date: 2013–03–27
  8. By: Anton Korinek; Enrique G. Mendoza
    Abstract: The 1990s Sudden Stops in emerging markets were a harbinger for the 2008 global financial crisis. During Sudden Stops, countries lost access to credit, causing abrupt current account reversals, and suffered Great Recessions. This paper reviews a class of models that yields quantitative predictions consistent with these observations, based on an occasionally binding credit constraint that limits debt to a fraction of the market value of incomes or assets used as collateral. Sudden Stops are infrequent events nested within regular business cycles, and occur in response to standard shocks after periods of expansion increase leverage ratios sufficiently. When this happens, the Fisherian debt-deflation mechanism is set in motion, as lower asset or goods prices tighten further the constraint causing further deflation. This framework also embodies a pecuniary externality with important implications for macro-prudential policy, because agents do not internalize how current borrowing decisions affect collateral values during future financial crises.
    JEL: E44 F34 F41
    Date: 2013–08
  9. By: Luis Catão; Gian-Maria Milesi-Ferretti
    Abstract: We examine the determinants of external crises, focusing on the role of foreign liabilities and their composition. Using a variety of statistical tools and comprehensive data spanning 1970-2011, we find that the ratio of net foreign liabilities (NFL) to GDP is a significant crisis predictor, and the more so when it exceeds 50 percent in absolute terms and 20 percent of the country-specific historical mean. This is primarily due to net external debt--the effect of net equity liabilities is weaker and net FDI liabilities seem if anything an offset factor. We also find that: i) breaking down net external debt into its gross asset and liability counterparts does not add significant explanatory power to crisis prediction; ii) the current account is a powerful predictor, either measured unconditionally or as deviations from conventionally estimated “normsâ€; iii) foreign exchange reserves reduce the likelihood of crisis more than other foreign asset holdings; iv) a parsimonious probit containing those and a handful of other variables has good predictive performance in- and out-of-sample. The latter result stems largely from our focus on external crises stricto sensu.
    Keywords: External debt;Financial crisis;Current account;Foreign exchange;Foreign direct investment;Economic models;International Investment Positions, Sovereign Debt, Currency Crises, Current Account Imbalances, Foreign Exchange Reserves.
    Date: 2013–05–16
  10. By: Bertola, Giuseppe
    Abstract: When economic integration fosters expectations of productivity convergence, capital flows are driven by consumption-smoothing anticipation of income growth patterns as well as by factor-intensity equalization. In the euro area, financial integration eased accumulation of international imbalances, but the convergence that appears to have been expected was not realized. The resulting crisis casts doubt on the sustainability of the current configuration of the European integration process. A robust and coherent European market and policy integration process would require supranational implementation of the behavioral constraints and contingent redistribution schemes that traditionally operate within National socio-economic systems, and have been weakened in recent experience by uncoordinated policy competition.
    Keywords: Current accounts; Economic integration; Income distribution
    JEL: E2 F3
    Date: 2013–05
  11. By: Daniel P. Murphy
    Abstract: Empirical studies show that tradable consumption goods are more expensive in rich countries. This paper proposes a simple yet novel explanation for this apparent failure of the law of one price: Consumers’ utility from tradable goods depends on their consumption of complementary goods and services. Monopolistically competitive firms charge higher prices in countries with more complementary goods and services because consumer demand is less elastic there. The paper embeds this explanation within a static Krugman (1980)-style model of international trade featuring differentiated tradable goods. Extended versions of the model can also account for the high prices of nontradable services in rich countries. The paper provides direct evidence in support of this new explanation. Using free-alongside-ship prices of U.S. and Chinese exports, I demonstrate that prices of specific subsets of tradable goods are higher in countries with high consumption of relevant complementary goods, conditional on per capita income and other country-level determinants of consumer goods prices.
    Keywords: Price levels ; Trade
    Date: 2013
  12. By: Kalemli-Ozcan, Sebnem; Luttini, Emiliano; Sørensen, Bent E
    Abstract: Using a variance decomposition of shocks to GDP, we quantify the role of international factor income, international transfers, and saving in achieving risk sharing during the recent European crisis. We focus on the sub-periods 1990--2007, 2008--2009, and 2010 and consider separately the European countries hit by the sovereign debt crisis in 2010. We decompose risk sharing from saving into contributions from government and private saving and show that fiscal austerity programs played an important role in hindering risk sharing during the sovereign debt crisis.
    Keywords: Capital Markets; Income Insurance; International Financial Integration
    JEL: E2 E6 F15 G15
    Date: 2013–07
  13. By: Gustavo Adler; Nicolas E. Magud
    Abstract: We study the history of terms-of-trade booms (during 1970–2012), with a focus on Latin America, through the prisms of a simple metric that quantifies the associated income windfall. We also document saving patterns during these episodes and propose a measure of how much of the income windfall was saved. We find that Latin America‘s terms-of-trade shocks of the last decade have not differed much in magnitude from those observed during the 1970s, but that the associated windfall have been substantially larger. While aggregate saving increased more than in past episodes, the share of the windfall saved (the marginal saving rate) seems to be lower, suggesting that greater aggregate saving reflects mainly the sheer size of the windfall rather than a greater 'effort' to save it. Finally, we find evidence that, while savings during the boom help to increase post-boom income, the composition of such savings matters. Specifically, in past episodes, savings allocated to foreign asset accumulation appear to have contributed more to post-boom income than those devoted to domestic investment.
    Keywords: Terms of trade;Latin America;External shocks;Savings;Investment;Income;Business cycles;Cross country analysis;Terms of trade, windfall, real income, aggregate saving, saving rate
    Date: 2013–05–09
  14. By: Sonali Jain-Chandra; Min Jung Kim; Sung Ho Park; Jerome Shin
    Abstract: Korea was hit hard by the 2008 global financial crisis, with the foreign bank deleveraging channel coming prominently into play. The global financial crisis demonstrated that a sharp deleveraging can be transmitted to emerging markets through the bank lending channel to a slowdown in credit growth. The analysis finds that a sharp decline in external funding led to relatively modest decline in domestic credit by Korean banks, due to concerted policy efforts by the government in 2008. Impulse responses from a Dynamic Stochastic General Equilibrium (DSGE) model calibrated to Korea shows that it appears better prepared to handle such shocks relative to 2008. Indeed, Korea is much more resilient to such shocks due to the efforts by the authorities, which has led to the strengthening of external buffers, such as higher foreign exchange reserves and bilateral and multilateral currency swap arrangements.
    Keywords: International banks;Korea, Republic of;Global Financial Crisis 2008-2009;External shocks;Banking sector;Liquidity;Financial crisis;Economic models;Global banks, liquidity shock, cross-border lending
    Date: 2013–05–08
  15. By: Luís Brandão Marques; Gaston Gelos; Natalia Melgar
    Abstract: This paper considers the role of country-level opacity (the lack of availability of information) in amplifying shocks emanating from financial centers. We provide a simple model where, in the presence of ambiguity (uncertainty about the probability distribution of returns), prices in emerging markets react more strongly to signals from the developed market, the more opaque the emerging market is. The second contribution is empirical evidence for bond and equity markets in line with this prediction. Increasing the availability of information about public policies, improving accounting standards, and enhancing legal frameworks can help reduce the unpleasant side effects of financial globalization.
    Keywords: External shocks;Financial systems;Emerging markets;Stock markets;Bond markets;Transparency;Economic models;transparency, emerging markets, transmission of global financial shocks
    Date: 2013–07–03
  16. By: Margit Molnar; Yusuke Tateno; Amornrut Supornsinchai
    Abstract: The Asia-Pacific region has long been prone to volatile capital flows that have posed a challenge for authorities to cope with and occasionally led to payment difficulties dragging down exchange rates and spilling over to the real economy. The recent global crisis repeated past history, although most economies hard hit by the 1997-1998 Asian financial crisis have learnt a lesson and are now better prepared to face volatile capital flows. Asian and Pacific countries have strengthened capital controls over 1995-2010, in particular those targeting portfolio flows. Now more countries impose some sort of control on outflows of all types of capital than 15 years ago and controls on outflows appear more stringent than on inflows. Notwithstanding the controls, most Asia-Pacific economies experienced at least one spell of large capital flows. To effectively curb capital inflow bonanzas, the measures need to be targeted. Portfolio inflow surges can be curbed by controlling bond inflows in general and in the case of very large surges, by limiting collective investment inflows. Controls on credit inflows appear effective in reducing the probability of cross-border lending booms. Furthermore, measures targeting residents appear more effective in reducing the probability of capital inflow bonanzas. Beside control measures, other conditions also appear to have a bearing on the probability of occurrence and on the length of the capital inflow spell. Previous inflows appear to be an important determinant of future booms in all asset categories, while global risk appetite increases the probability of overall inflows and cross border credit bonanzas. Domestic growth only explains the occurrence of equity portfolio inflow booms. A more lenient stance on outflows could shorten the duration of capital inflow bonanzas and hence reduce their cumulative impact on the economy. La région Asie-Pacifique a longtemps été exposée à des flux de capitaux volatiles dont la gestion a représenté un défi pour les autorités et qui ont occasionnellement entrainé des difficultés de paiement tirant vers le bas les taux d’intérêt et se répercutant sur l’économie réelle. L’histoire s’est répétée avec la récente crise mondiale, même si la plupart des économies durement touchées par la crise financière asiatique de 1997-98 ont appris la leçon et sont maintenant mieux préparées pour faire face à des flux de capitaux volatiles. Les pays de l’Asie et du Pacifique ont renforcé les contrôles de capitaux de 1995 à 2010, en particulier ceux ciblant les flux de portefeuille. Maintenant plus de pays imposent une certaine forme de contrôle sur les flux sortants de tous types de capitaux qu’il y a 15 ans et les contrôles sur les flux sortants sont plus stricts que sur les flux entrants. Cela étant, la plupart des économies de l’Asie-Pacifique ont connu au moins une période d’importants flux de capitaux. Pour enrayer efficacement les booms de flux entrants, les mesures doivent être ciblées. Les flux entrants de portefeuille peuvent être enrayés en contrôlant les afflux de bons en général et dans le cas de flux de grande ampleur, en limitant les investissements collectifs entrants. Les contrôles sur les entrées de crédits apparaissent efficaces pour diminuer la probabilité des booms de prêts transfrontaliers. De plus, les mesures ciblant les résidents semblent plus efficaces pour réduire la probabilité de booms d’entrées de capitaux. Outre les mesures de contrôle, d’autres conditions semblent également avoir un impact sur la probabilité de survenance et sur la durée d’une période d’entrée de capitaux. Les flux précédents semblent être d’importants déterminants des futurs booms pour toutes les catégories d’actifs, alors que l’appétit mondial pour le risque augmente la probabilité d’afflux globaux et des booms des crédits transfrontaliers. La croissance domestique explique seulement l’apparition de booms d’investissements entrants en titres de participation. Une attitude plus indulgente envers les flux sortants pourrait réduire la durée des booms de flux entrants et donc réduire leur impact cumulatif sur l’économie.
    Keywords: capital flows, sudden stops, bonanzas, capital controls, flux de capitaux, retraits soudains, booms, contrôles de capitaux
    JEL: F21 F32 F34
    Date: 2013–08–29

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